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Pricing Payment Cards

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Author Info

  • ?zlem Bedre-Defolie
  • Emilio Calvano

Abstract

Payment card networks, such as Visa, require merchants' banks to pay substantial "interchange" fees to cardholders' banks, on a per transaction basis. This paper shows that a network's profi t-maximizing fee induces an inefficient price structure, over-subsidizing card usage and over-taxing merchants. We show that this distortion is systematic and arises from the fact that consumers make two distinct decisions (membership and usage) whereas merchants make only one (membership). In general, we contribute to the theory of two-sided markets by introducing a model that distinguishes between extensive and intensive margins,thereby explaining why two-part tarif fs are useful pricing tools for platforms.

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File URL: http://www.aeaweb.org/articles.php?doi=10.1257/mic.5.3.206
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Bibliographic Info

Article provided by American Economic Association in its journal American Economic Journal: Microeconomics.

Volume (Year): 5 (2013)
Issue (Month): 3 (August)
Pages: 206-31

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Handle: RePEc:aea:aejmic:v:5:y:2013:i:3:p:206-31

Note: DOI: 10.1257/mic.5.3.206
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References

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  1. Sujit Chakravorti, 2003. "Theory of credit card networks: a survey of the literature," Payment Cards Center Discussion Paper 03-09, Federal Reserve Bank of Philadelphia.
  2. Armstrong, Mark & Vickers, John, 2006. "Competitive nonlinear pricing and bundling," MPRA Paper 70, University Library of Munich, Germany.
  3. Hendrik J. Brouwer & Chair, 2005. "General discussion : Weiner-Wright : Interchange fees in various countries : developments and determinants," Proceedings – Payments System Research Conferences, Federal Reserve Bank of Kansas City, issue May, pages 65-72.
  4. Rochet Jean-Charles, 2003. "The Theory of Interchange Fees: A Synthesis of Recent Contributions," Review of Network Economics, De Gruyter, vol. 2(2), pages 1-28, June.
  5. Gans Joshua S & King Stephen P., 2003. "Approaches to Regulating Interchange Fees in Payment Systems," Review of Network Economics, De Gruyter, vol. 2(2), pages 1-21, June.
  6. Jean-Charles Rochet & Jean Triole, 2002. "Platform Competition in Two Sided Markets," FMG Discussion Papers dp409, Financial Markets Group.
  7. Julian Wright, 2001. "The Determinants of Optimal Interchange Fees in Payment Systems," Industrial Organization 0108001, EconWPA.
  8. Graeme Guthrie & Julian Wright, 2003. "Competing Payment Schemes," Departmental Working Papers wp0311, National University of Singapore, Department of Economics.
  9. Laffont, Jean-Jacques & Marcus, Scott & Rey, Patrick & Tirole, Jean, 2003. " Internet Interconnection and the Off-Net-Cost Pricing Principle," RAND Journal of Economics, The RAND Corporation, vol. 34(2), pages 370-90, Summer.
  10. Alan S. Frankel, 2005. "Interchange fees in various countries : developments and determinants : commentary on Weiner and Wright," Proceedings – Payments System Research Conferences, Federal Reserve Bank of Kansas City, issue May, pages 51-64.
  11. Evans, David & Schmalensee, Richard, 2005. "The Economics of Interchange Fees and Their Regulation: An Overview," Working papers 18181, Massachusetts Institute of Technology (MIT), Sloan School of Management.
  12. Baxter, William F, 1983. "Bank Interchange of Transactional Paper: Legal and Economic Perspectives," Journal of Law and Economics, University of Chicago Press, vol. 26(3), pages 541-88, October.
  13. repec:reg:rpubli:105 is not listed on IDEAS
  14. Gans Joshua S & King Stephen P, 2003. "The Neutrality of Interchange Fees in Payment Systems," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 3(1), pages 1-18, January.
  15. Armstrong, Mark, 2001. "The theory of access pricing and interconnection," MPRA Paper 15608, University Library of Munich, Germany.
  16. Stuart E. Weiner & Julian Wright, 2005. "Interchange fees in various countries : developments and determinants," Proceedings – Payments System Research Conferences, Federal Reserve Bank of Kansas City, issue May, pages 5-49.
  17. Richard Schmalensee, 2001. "Payment Systems and Interchange Fees," NBER Working Papers 8256, National Bureau of Economic Research, Inc.
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Citations

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Cited by:
  1. Andre Veiga & E. Glen Weyl, 2011. "Multidimensional Heterogeneity and Platform Design," Working Papers 11-33, NET Institute, revised Nov 2011.
  2. Reisinger, Markus, 2014. "Two-part tariff competition between two-sided platforms," European Economic Review, Elsevier, vol. 68(C), pages 168-180.
  3. Verdier, Marianne, 2012. "Interchange fees and inefficiencies in the substitution between debit cards and cash," International Journal of Industrial Organization, Elsevier, vol. 30(6), pages 682-696.
  4. Anna Creti & Marianne Verdier, 2011. "Fraud, Investments and Liability Regimes in Payment Platforms," EconomiX Working Papers 2011-31, University of Paris West - Nanterre la Défense, EconomiX.
  5. Alexander White & E. Glen Weyl, 2010. "Imperfect Platform Competition: A General Framework," Working Papers 10-17, NET Institute, revised Nov 2010.
  6. James McAndrews & Zhu Wang, 2008. "The economics of two-sided payment card markets: pricing, adoption and usage," Research Working Paper RWP 08-12, Federal Reserve Bank of Kansas City.
  7. Economides, Nicholas & Henriques, David, 2011. "To surcharge or not to surcharge? A two-sided market perspective of the no-surchage rule," Working Paper Series 1388, European Central Bank.
  8. Bolt, Wilko & Schmiedel, Heiko, 2009. "SEPA, efficiency, and payment card competition," Working Paper Series 1140, European Central Bank.
  9. Reisinger, Markus, 2010. "Unique Equilibrium in Two-Part Tariff Competition between Two-Sided Platforms," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 308, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
  10. Marc BOURREAU & Marianne VERDIER, 2010. "Cooperation for Innovation in Payment Systems: The Case of Mobile Payments," Communications & Strategies, IDATE, Com&Strat dept., vol. 1(79), pages 95-114, 3rd quart.
  11. Wilko Bolt & Sujit Chakravorti, 2010. "Digitization of Retail Payment," DNB Working Papers 270, Netherlands Central Bank, Research Department.

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